is when the prices of goods and services increase. There are four main types of inflation, categorized by their speed: creeping, walking, galloping, and hyperinflation. There are also many types of asset inflation and of course wage inflation. Many experts consider demand-pull
to be types of inflation, but they are actually causes of inflation
, as is expansion of the money supply.
1. Creeping Inflation
People know that next year's car model will probably cost more. (Photo: Bill Pugliano/Getty Images)
Creeping or mild inflation is when prices rise 3% a year or less. According to the U.S. Federal Reserve, when prices rise 2% or less, it's actually beneficial to economic growth. That's because this mild inflation sets expectations that prices will continue to rise. As a result, it sparks increased demand
as consumers decide to buy now before prices rise in the future. By increasing demand, mild inflation drives economic expansion.
2. Walking Inflation
Health care costs rise faster than 3% a year. (Photo: Jason Greenspan/Getty Images)
This type of strong, or pernicious, inflation is between 3-10% a year. It is harmful to the economy because it heats up economic growth too fast. People start to buy more than they need, just to avoid tomorrow's much higher prices. This drives demand even further, so that suppliers can't keep up. More important, neither can wages. As a result, common goods and services are priced out of the reach of most people.
3. Galloping Inflation
Galloping inflation occurred during WWII. (Photo: U.S. National Archives and Records Administration)
When inflation rises to ten percent or greater, it wreaks absolute havoc on the economy. Money loses value so fast that business and employee income can't keep up with costs and prices. Foreign investors avoid the country, depriving it of needed capital
. The economy becomes unstable, and government leaders lose credibility. Galloping inflation must be prevented.
Hyperinflation usually occurs to pay for war. (Photo: Chris Hondros/Getty Images)
Hyperinflation is when the prices skyrocket more than 50% -- a month. It is fortunately very rare. In fact, most examples of hyperinflation have occurred when the government printed money recklessly to pay for war. Examples of hyperinflation include Germany
in the 1920s, Zimbabwe in the 2000s, and during the American Civil War.
Federal Reserve Chairman Paul Volcker ended stagflation (Photo: Win McNamee/Getty Images)
is just like its name says: when economic growth is stagnant, but there still is price inflation. This seems contradictory, if not impossible. Why would prices go up when there isn't enough demand to stoke economic growth? It happened in the 1970s when the U.S. went off the gold standard
. Once the dollar's value was no longer tied to gold, the number of dollars in circulation skyrocketed. This increase in the money supply
was one of the causes of inflation. Stagflation didn't end until then-Federal Reserve Chairman Paul Volcker
raised the Fed funds rate
to the double-digits -- and kept it there long enough to dispel expectations of further inflation. Because it was such an unusual situation, it probably won't happen again.
Clothing prices are measured by the core inflation rate. (Photo: Chris Hondros/Getty Images)
The core inflation rate
measures rising prices in everything except
food and energy. That's because gas prices tend to escalate every summer, usually driving up the price of food and often anything else that has large transportation costs. The Federal Reserve
uses the core inflation rate to guide it in setting monetary policy
. The Fed doesn't want to adjust interest rates
every time gas prices go up -- and you wouldn't want it to.
Deflation in housing prices trapped many homeowners.(Photo: Peter Dazeley/Getty Images)
Deflation is the opposite of inflation -- it's when prices fall. It's caused when an asset bubble bursts. That's what happened in housing in 2006. Deflation in housing prices trapped those who bought their homes in 2005. In fact, the Fed was worried about overall deflation during the recession. That's because deflation can turn a recession into a depression. During the Great Depression of 1929
, prices dropped 10% -- a year. Once deflation starts, it is harder to stop than inflation.
8. Wage Inflation
Most U.S. workers have not experienced wage inflation. (Photo: Getty Images)
Wage inflation is when workers' pay rises faster than the cost of living. This occurs when there is a shortage of workers, when labor unions negotiate ever-higher wages, or when workers effectively control their own pay. A worker shortage occurs whenever unemployment is below 4%. Labor unions negotiated higher pay for auto workers in the 90s. CEOs effectively control their own pay by sitting on many corporate boards, especially their own. All of these situations created wage inflation. Of course, everyone thinks their wage increases are justified. However, higher wages are one element of cost-push inflation, and can cause prices of the company's goods and services to rise.
In 2005, there was an asset bubble in housing. (Photo: Justin Sullivan/Getty Images)
An asset bubble, or asset inflation, occurs in one asset class, such as housing, oil or gold
. It is often overlooked by the Federal Reserve and other inflation-watchers when the overall rate of inflation is low. However, as we saw in the subprime mortgage crisis
and subsequent global financial crisis
, asset inflation can be very damaging if left unchecked.
Inflation in gas prices affect people dramatically. (Photo: Mark Renders/Getty Images)
Gas prices rise each spring in anticipation of the summertime vacation driving season. In fact, you can expect gas prices to rise ten cents per gallon each spring. However, political uncertainty in the oil-exporting countries drove gas prices higher in 2011 and 2012. Prices hit an all-time peak of $4.17 in July 2008, thanks to economic uncertainty. For more on that, see Gas Prices in 2008
What do oil prices have to do with gas prices? A lot. In fact, oil prices are responsible for 72% of gas prices. The rest is distribution and taxes, which aren't as volatile as oil prices. For more, see How Do Crude Oil Prices Affect Gas Prices?